United Natural Foods, Inc. — Fiscal 2017 Q2 Form 10-Q
Reporting period: 13 weeks and 26 weeks ended January 28, 2017, compared with January 30, 2016. The company distributes natural, organic and specialty products in the United States and Canada through wholesale, retail, manufacturing and branded-product operations. The statements are unaudited.
Key Financial Metrics
| Metric | Q2 FY2017 | Q2 FY2016 | 26 Weeks FY2017 | 26 Weeks FY2016 |
|---|---|---|---|---|
| Net sales | $2.286 billion | $2.048 billion | $4.564 billion | $4.124 billion |
| Gross profit | $344.9 million | $297.5 million | $694.0 million | $611.5 million |
| Gross margin | 15.09% | 14.53% | 15.21% | 14.83% |
| Operating income | $46.3 million | $41.7 million | $99.6 million | $95.6 million |
| Operating margin | 2.02% | 2.04% | 2.18% | 2.32% |
| Net income | $25.5 million | $22.7 million | $54.7 million | $52.8 million |
| Diluted EPS | $0.50 | $0.45 | $1.08 | $1.05 |
| Net cash from operations | Not separately provided | Not separately provided | $96.9 million | $124.6 million |
Balance Sheet and Liquidity
- Cash and cash equivalents were $30.7 million at January 28, 2017, compared with $18.6 million at July 30, 2016.
- Total assets were $2.870 billion and total stockholders’ equity was $1.590 billion.
- Revolving-credit borrowings were $393.6 million; long-term debt, including the current portion, was $167.8 million. Aggregate reported borrowings were approximately $561.4 million, excluding other obligations.
- The revolving facility had $418.8 million of remaining availability after $37.1 million of letters of credit. The borrowing base was $849.5 million.
- The company was not subject to the springing fixed-charge coverage covenant during the quarter and was in compliance with the term-loan financial covenants.
- Working capital increased 4.1% to approximately $1.03 billion from July 30, 2016.
Cash Flow and Capital Spending
- Operating cash flow declined $27.7 million year over year to $96.9 million, primarily because of higher accounts receivable and prepaid assets, partly offset by lower inventories.
- Investing cash outflow was $34.6 million, including $22.7 million of capital expenditures, $10.0 million for acquired businesses and a $2.0 million long-term investment.
- Financing cash outflow was $50.2 million, reflecting net repayments under the revolving credit facility and long-term debt.
- Cash increased by $12.1 million during the first 26 weeks, ending at $30.7 million.
Material Changes Versus the Prior Comparable Period
- Q2 net sales increased 11.6%, or $237.8 million, while 26-week sales increased 10.7%, or $439.5 million. Growth primarily reflected the Haddon, Nor-Cal, Global Organic and Gourmet Guru acquisitions and organic wholesale growth.
- Conventional-supermarket sales increased 26% in Q2 and 20% for the first 26 weeks, largely due to Haddon. The channel represented approximately 29% of sales versus 26% and 27%, respectively, in the prior-year periods.
- Whole Foods Market represented approximately 34% of Q2 sales and 33% of 26-week sales, down from 37% and 36%, respectively. Its Q2 sales increased approximately 3%, primarily from new store openings.
- Gross margin improved 56 basis points in Q2 and 38 basis points for the first 26 weeks, reflecting acquisitions and margin initiatives, partly offset by competitive pricing, lower supplier promotional activity and reduced fuel surcharges.
- Operating expenses increased faster than sales, rising to 13.07% of Q2 sales from 12.49% and to approximately 13.02% for the first 26 weeks from 12.51%. Acquired businesses, higher stock compensation, and increased depreciation and amortization contributed to the increase.
- Operating margin declined slightly in Q2 and declined 14 basis points for the first 26 weeks. Net income increased 12.3% in Q2 and 3.6% for the first 26 weeks.
- Interest expense increased to $4.4 million in Q2 and $9.0 million for the first 26 weeks, primarily because of acquisition-related borrowings.
- Prior-year restructuring and asset-impairment charges totaled $2.0 million in Q2 and $4.8 million for the first 26 weeks; no comparable charges were recorded in fiscal 2017 through the second quarter.
Outlook, Commentary, Risks and Unusual Items
- Management expects fiscal 2017 sales to exceed the comparable prior-year periods, driven by acquisitions, new customers and broader product offerings. No specific full-year revenue or earnings guidance is provided in the filing.
- Management expects most growth to come from lower-gross-margin supernatural and conventional-supermarket channels and intends to offset margin pressure through supply-chain efficiencies, information-technology improvements and the warehouse-management-system rollout.
- Capital expenditures are expected to be approximately 0.5% to 0.6% of fiscal 2017 net sales. The company expects to complete the rollout of its warehouse-management system to existing U.S. broadline facilities by the end of fiscal 2018.
- In the third quarter, the company announced a restructuring and shared-services program expected to generate $3.5 million to $4.0 million of pretax charges, primarily severance, with approximately 265 positions eliminated or relocated. The program was expected to be largely completed in Q3, with some transitions extending into Q2 fiscal 2018.
- Key risks include dependence on Whole Foods Market and other principal customers, lower margins in conventional channels, acquisition integration and customer retention, competition, food-price deflation, fuel and foreign-exchange volatility, supply-chain disruptions, labor costs, technology implementation and execution of the restructuring program.
- The company had no pending material legal proceedings and reported no material changes to previously disclosed risk factors or contractual obligations.
- Interest-rate swaps covered $290.0 million of notional debt and were designated as cash-flow hedges. The swaps had a $2.5 million fair-value asset at January 28, 2017.
- Pending accounting standards, including revenue recognition, leases and share-based compensation guidance, had not yet been adopted; the filing states that the ultimate impact was still under evaluation for certain standards.
Investor Verification Checklist
- Verify whether acquisition-driven sales growth translates into sustainable organic growth after acquisition anniversaries.
- Monitor Whole Foods Market concentration, its distribution agreement through September 28, 2025, and the effect of declining sales mix concentration.
- Assess whether operating-expense growth, integration costs and higher depreciation and amortization offset gross-margin gains.
- Track operating cash conversion, receivables, inventory levels and debt reduction following the decline in first-half operating cash flow.
- Review compliance with term-loan covenants and available revolver capacity as acquisition and restructuring spending continues.
- Evaluate the cost, timing and operational disruption associated with the shared-services center, workforce reductions and warehouse-management-system rollout.
- Confirm the final accounting and purchase-price allocations for Haddon, Nor-Cal and Gourmet Guru, which remained provisional in part at the reporting date.